INTERMEDIATE ACCOUNTING 3

DIRECT
FINANCING LEASE
 NATIONAL UNIVERSITY
JUNIOR PHILIPPINE INSTITUTE OF ACCOUNTANTS

DIRECT FINANCING LEASE

Intermediate Accounting 3
PREPARED BY: Aguiluz, Kc Nicole L.

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RECOGNITION AND INITIAL MEASUREMENT

• At the commencement date, the lessor recognizes an asset from

finance lease as receivable measured at an amount equal to net
investment in the lease.
o The lessor shall use the interest rate implicit in
the lease to measure the net investment in the
lease.

Gross Investment in the Lease Net Investment in the Lease

• Annual Lease Payments • Annual Lease Payments

• Residual Value (guaranteed or
unguaranteed)
• Exercise Price of purchase option
(only if reasonably certain that the
lessee will exercise the option)
• Residual Value (guaranteed or
unguaranteed)
• Exercise Price of purchase option
(only if reasonably certain that the
lessee will exercise the option)
 NATIONAL UNIVERSITY
JUNIOR PHILIPPINE INSTITUTE OF ACCOUNTANTS

SUBSEQUENT MEASUREMENT
The net investment in the lease is subsequently measured using the effective interest
method.

DIRECT FINANCING LEASE

• The lessor is a financing company
• A direct financing lease recognizes only interest income
• No manufacturer’s/dealer’s profit is recognized because the fair value and
the cost of the leased asset are equal.
• Initial direct cost is capitalized.
• Net investment is simply equal to the sum of the:
o Cost of asset
o Initial direct cost

PROBLEM 1:
On January 1, 2019, Callista Company leased an equipment to another entity
under a sales type finance lease. Rentals are payable at the end of each year,
beginning December 31, 2019. The lease term is 6 years and the useful life of the
equipment is 8 years.
The fair value of the equipment is P1,273,800 while the cost is P800,000. The
implicit rate in the lease is 12% which is known to the lessee.
The lessee has the option to purchase the equipment for P80,000 at the end
term of the lease term. It is reasonably certain that the lessee will exercise the
purchase option.
The present value of 1 at 12% for 6 periods is 0.51 and the present value of an
ordinary annuity at 12% for 6 periods is 4.11.

1. What is the annual rental payment?

Fair Value of the asset 1,273,800
PV of the bargain purchase option (80,000 x
0.51) (40,800)
Net investments to be recovered from the
rentals 1,233,000
Divided by: PV of annuity factor 4.11
ANNUAL RENTAL 300,000

2. What amount should be reported initially as total financial revenue?

Gross Rentals (300,000 x 6) 1,800,000

Bargain purchase option 80,000
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JUNIOR PHILIPPINE INSTITUTE OF ACCOUNTANTS

Gross investment in the lease 1,880,000

Net investment in the lease – Fair value of the
asset (1,273,800)
TOTAL FINANCIAL REVENUE 606,200

3. What amount should be reported as gross income for the sale?

Sales – fair value of asset 1,273,800
Cost of good sold equals to cost of asset (800,000)
GROSS PROFIT 473,800

4. What amount should be reported as interest income for 2019?

Interest Income for 2019 (1,273,800 x 12%) 152,856

SOURCES:
Empleo, Patricia M., CPA, Ph.D., (2019). The Intermediate Accounting Volume 3.

Valix, Conrado T., (2019). Practical Finacial Accounting Volume 2.